The US Fed takes centre stage

North American markets were little changed this week ahead of a very important week. The Dow slipped 0.1% lower, while the S&P 500 moved up 0.02% for the week. Overall, October continued with September's impressive gains, with the Dow gaining 3.1% and the S&P 500 rising 3.7% for the month.

Early in the week, the end of the G20 summit and a lack of significant news from the summit gave traders the signal to continue selling the US dollar. As a result, the yen was at a 15-year high at 80.4 yen versus the US at one point in the week. The euro hit US$1.405, while the Australian dollar hit US$0.9954.

During the week, U.S. September pre-owned homes sales rose 10% to 4.53 million houses, the second consecutive monthly increase. US 3^rd quarter GDP rose 2% over the same quarter in 2009, which was 0.3% higher than 2^nd quarter's 1.7% growth. However, it was lower than economists' expectations of 2.1%. In addition, the Reuters/University of Michigan consumer index fell in October from 68.2 to 67.7.

Gold shines on Diwali

Gold rose 2.3% this week, breaking above the US$1350 level and ending the week at US$1357.59/ounce. Gold has fallen since hitting a record high of US$1387/ounce two weeks ago. Investors had become concerned about the size of QE2, and gold's rapid rise in recent weeks. However, it received support in recent days from the Indian Diwali Festival. 

One very important week

Investors have arguably been looking forward to next week since Federal Reserve Chairman Ben Bernanke's statement on August 27^th. Markets have climbed substantially higher because of expectations for QE2. In fact, the S&P 500 has gone up 8.8% in September and 3.7% in October, two traditionally poor months for stock markets. 

In the early part of October, investors had priced in a QE2 of US$1 trillion to be announced November 2^nd and 3^rd. However, analysts and strategists have since stated that QE2 is more likely to be about $500 billion. In fact, recent reports have suggested that QE2 will be carried out over several months, and not in one big lump sum. 

I wrote an article on this blog on October 17^th stating that “an announcement for QE2 of less than US$1 trillion could leave investors disappointed and stocks heading lower”. That is exactly the same analysis that analyst Mark Faber reportedly stated this Tuesday, as well as many others. However, while most investors will likely be disappointed by a QE2 that amounts to no more than $600 billion in the first few months, the prospect of cheap money could see North American equities heading as much as 10% higher. In fact, that is partly the reasoning behind the US Federal Reserve's QE2, which is to increase Americans' wealth by driving stock markets higher with cheap money.

Gold will shine regardless of QE2's size

Regardless of the direction of North American equities post-QE2, it appears nearly certain that the price of gold will be heading higher. A large QE2 would certainly send gold skyrocketing because of a weaker US dollar, while a smaller QE2 could get investors worried about economic growth, thus sending their money into the safety of gold. I see the recent pullback in gold as a temporary breather, as investors wait and see what the US Fed does. QE2 is a certainty at this point. Thus, regardless of its size, gold will be continuing its uptrend for the rest of 2010 and into 2011.

North American markets up as gold falls 3.4%

North American stock markets recorded their third consecutive weekly gain. For the week, the Dow and the S&P 500 were both up 0.6 percent. Markets were roiled on Monday after China's decision to raise interest rates by 0.25%. The move was aimed to steady the country's inflation rate. North American markets were also in a passive stance on Friday ahead of the G20 summit in South Korea.

 Cotton soars

The price of cotton continued to soared this week, after US production was threatened by weather conditions. On Friday, December cotton futures rose 3.5% to close at US$1.1971/pound. For the week, cotton was up 9%.

Cotton price reached a 140-year high on October 15^th, after hitting US$1.198/pound. Cotton's upward movement in recent weeks has been due to production cuts due to floods in China and Pakistan.

Gold falls 3.4%

The price of gold fell 3.4% this week to settle at US$1325.1/ounce, its biggest fall since early July. This was partly because China's interest rate hike has sent the US dollar up 0.7% this week. Gold hit a record of $1,387.1/ounce the week before, but have since fallen partly due to concerns that US quantitative easing (QE2) has been fully priced into the market.

The week ahead

Markets will likely focus on announcements from the G20 summit and the continued earnings season next week. In addition, investors will also be looking ahead to the Federal Reserve meeting on November 2^nd and 3^rd. The recent fall in the US dollar has analysts believing that the market has priced in US$1 trillion of quantitative easing (QE2). Thus, an announcement by Ben Bernanke for less than that amount could send markets lower. In fact, a report from the Wall Street Journal this week showed that the Fed may conduct QE2 over a period of months and in tranches, and not in one large amount.

Rally loses steam as Bernanke offers little surprise

North American markets, which have been rallying since Ben Bernanke's speech on August 27^th, appeared to lose steam this week. For the week, the S&P 500 was up 1% to 1,176.19, while the Dow edged 0.5% higher to 11,062.78. The S&P 500 has gained 12% since the end of August, reaching its highest level since May 3^rd on Wednesday.

US dollar weakness continues 

Quantitative easing (QE2) and U.S. dollar weakness continued to be the centre of attention this week. The US dollar fell to a 15-year low against the yen, the Canadian loonie jumped past parity, and the Australian dollar also rose past parity for the first time in 30 years. 

 

Ben Bernanke stated on Friday that with US inflation being so low and unemployment at a high level, the US Federal Reserve will take further action. However, he did not give details about the size of QE2. Thus, the US dollar stopped declining on Friday, and rose slightly after his speech. Gold also edged lower to end at $1,368.26/ounce, after hitting another record high of $1,380.18 on Thursday.

Emerging Markets shine

With the promise of cheap money by the US Fed, investors poured money into emerging markets in an attempt to obtain faster growth and higher yield. According to Reuters, JPMorgan’s EMBI+ index showed investors buying up emerging markets government bonds. In addition, EPFR Global stated that at the end of last week, emerging market equity fund flows hit a 33-month high, and emerging market bond funds absorbed $1 billion in one week.

Housing turns ugly

The consistently weak US housing market got even uglier, as allegations grew that lenders have improperly seized hundreds of thousands of houses. In fact, Bank of America has stopped all sales of foreclosed houses. This is expected to halt a large portion of the US housing market for the next several months. In fact, one hedge fund has pointed out that Bank of America could face a loss of US$70 billion as a result of the incident. As a result, Bank of America and other US bank shares fell on Friday.

Trade war looking less likely

The possibility of a trade war between the US and China decreased significantly on Friday, after the US Treasury Department delayed a decision of whether to label China as a currency manipulator until after the November 2^nd elections and the G20 summit on November 11^th. However, tensions remain because of QE2 driving down the US dollar, making other currencies less competitive.

Outlook

With North American markets having gone up significantly, investors could be facing a rude awakening when the Fed announces further actions on November 3^rd. With the S&P 500 having risen 12% since September began, investors are pricing in a US$1 trillion QE2 to be announced. However, to date, the US Fed has not given any indication about the size of QE2, and Friday's speech hinted that the Fed's action will be cautious. Thus, an announcement for QE2 of less than US$1 trillion could leave investors disappointed and stocks heading lower. In addition, with the steep rise in equities in recent weeks, markets will likely be trading sideways or slightly lower into the Fed's decision.

Markets rise on bad US jobs data

North American markets were up this week, despite a very weak U.S. September jobs report. For the week, the Dow was up 1.6% and recorded its 5^th weekly rise in 6 weeks. On Friday, the Dow also closed above 11,000 for the first time in five months. 

 

While a worse-than-expected jobs report showing a loss of 95,000 jobs would usually push markets down, this week's report strengthened investors' belief of further quantitative easing (QE2) from the US Federal Reserve on November 2^nd.

Another boost for markets was the earnings season. Alcoa rose 5.7% on Friday, after reporting better-than-expected earnings of $0.09/share, versus expectations of $0.05/share. The company also raised its 2010 estimate for world aluminium demand.

Commodities continue to shine

Agriculture stocks surged on Friday, after the US Department of Agriculture stated that the corn crop is going to be smaller than expected.

Oil also rose for the third week in a row to US$82.66. Meanwhile, copper rose 2.3% on the week to US$3.7745/pound. On the back of a weak US dollar, gold also continued its move higher, finishing the week up 2.1% at US$1345.3/ounce.

Euro zone steady

While downgrades by credit agencies continued for Ireland, the situation in the euro zone calmed significantly versus the week before. In fact, Germany's August industrial output rose 1.7%, much better than the expected rise of 0.1%.

Lookahead for next week

Earnings season continues next week, as GE, Google, Intel and JP Morgan Chase announce earnings. However, investors will likely pay most attention to the Fed, as the market anticipates a QE2 that amounts to US$500 billion. However, Fed action on November 2^nd is not guaranteed, and the Fed could disappoint investors with a QE2 that is less than expected.

With the S&P 500 having gone up 8.8% in September, and more still in the early part of October, a pull-back is more likely than further gains. Even if markets were able to hold on to its gains and head higher for the rest of October, investors will likely be disappointed by the Fed's decision on November 2^nd. In addition, the situation in the euro zone (Ireland in particular) could implode at any moment.

S&P 500 posts gain of 8.8% for September

North American stock markets edged lower this week, as the surprisingly strong month of September came to an end. The Dow slipped 0.3%, but the S&P 500 edged 0.2% lower. According to Reuters, the S&P 500 posted a 8.8% gain for September, making it the second best September on record.
The consumer confidence report announced on Tuesday was extremely dismal, as the index fell in September to its lowest since February. The consumer confidence index fell to 48.5 from 53.2 in August.

Gold shines once again


Gold continued to rally as it rose 1.5% for the week. Spot gold rose to a record high of $1,320.8/ounce, while US December gold futures went up to $1,317.8/ounce.

Good news from China


News from China helped to boost markets on Friday, as September PMI was announced to be 53.8 and better than expected. It was also 2.1 higher than August's reading, making it two months in a row that China's PMI has risen. Though it signals a strong Chinese economy, the reading is also raising interest rate hike worries among Chinese investors.


Trade tension between China and the US also continued to rise, as expected, as the US House of Representatives voted to amend the 1930 Tariff Act, in order to state that “fundamental exchange-rate misalignment” is a punishable subsidy. The measure was aimed at China, as US politicians continued to pressure the China currency ahead of the November mid-term elections.


Euro zone troubles continue

The situation in the euro zone turned increasingly ugly, as two more credit agencies warned on Tuesday that Ireland is at risk of more downgrades. That came after Moody's cut Anglo Irish Bank's lower-grade debt. As a result, Ireland's CDS, the cost of insuring Irish government debt against default, soared to a record high of 519 basis points (bp). Irish credit premiums also rose as the premium on the 10-year Irish government bond over the German bonds hit a record high of 475 bp.

Massive protests and strikes also occurred in the euro zone this week, as tens of thousands of workers protested in Brussels. Unions in Spain went on 24-hour strikes, crippling the train system and public transportation. Greece also faced similar strikes.  


The week ahead


North American markets will face many economic data next week, including the non-farm payrolls report. Alcoa will also kick off the third-quarter earnings season on Thursday. Pending home sales and August factory orders will give markets direction on Monday, while the ISM services index is announced on Tuesday. The ADP payrolls report is released on Wednesday.


While markets have seemingly ignored the increasingly worse situation in the euro zone in September, that will unlikely continue in October. The worsening economic growth and social unrest in the periphery of the euro zone will likely begin to drag markets lower.


Meanwhile, trade tensions between China and the US will only increase as we near the November elections. Thus, while technical analysts see a potential for the S&P 500 to break out higher as it is currently near 1,150 points, October will more likely see North American markets end lower.